February 9, 2016
The Financial Accounting Standards Board has proposed new lease accounting standards that are expected to be finalized and issued in early 2016. The new rules, which will require companies to record substantially all leases on their balance sheets, including existing leases, will transform lease accounting and will have a significant impact on company’s financial statements, supporting systems and controls and other items such as debt agreements.
The existing accounting standards for leases require lessees to classify leases as either capital leases or operating leases and account for these leases differently. Under the new rules, all leases with a maximum term longer than 12 months will be capitalized on the balance sheet whereby lessees will be required to recognize a right-to-use asset and lease liability based on the present value of the payments required by the lease. Lessees with a large portfolio of leases are likely to see a significant increase in balance sheet assets and liabilities. Similar to today’s capital leases, the FASB will require leases classified as “Type A” leases to be presented as a financing in the income statement when (1) payments represent substantially all of the fair value of the asset, (2) the lease term is for a major portion of the asset’s economic life, (3) purchase of the asset is considered a bargain, or (4) title transfer is automatic at the end of the lease. The fair value and economic life tests are expected to be similar to the 90% and 75% tests under existing U.S. GAAP guidance. All other leases would be classified as “Type B” leases whereby the income statement classification will be similar to today’s operating leases with costs presented as lease expense and recognized on a straight-line basis over the lease term. This dual model for income statement classification is expected to limit the impact of the proposed changes on the income statement and statement of cash flows.
Public Companies
Public companies will be required to adopt the new leasing standard for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. For calendar year-end public companies, this means an adoption date of January 1, 2019 and retrospective application to previously issued annual and interim financial statements for 2018 and 2017.
Nonpublic Companies
Nonpublic companies will be required to apply the new leasing standard for fiscal years beginning after December 15, 2019, and interim periods within fiscal years beginning after December 15, 2020. For nonpublic calendar year-end companies, this means an adoption date of January 1, 2020 and retrospective application to previously issued annual financial statements for 2019 and 2018.
Preparing for the New Rules
Below are four steps companies should take to prepare for the new rules:
By anticipating how new and existing leases will be classified and accounted for under the new standards, CFOs will be in a much better position to develop a strategy that minimizes any negative impact the lease accounting rules changes would otherwise have on financial statements.
To learn more about new lease accounting rules, contact a Boulay advisor at 952-893-9320 or learnmore@BoulayGroup.com.
File Download: New Lease Accounting Rules will Require Substantially All Leases to be Capitalized on the Balance Sheet
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